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For years, the debate over Bitcoin vs. Gold as an inflation hedge has been ongoing. While some analysts predict that Bitcoin will continue gaining market share from Gold due to greater adoption of digital assets and possibly due the availability of Bitcoin-specific scaling solutions, others argue that gold is the better choice now that the crypto market has fallen since the start of this year.
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Some, such as Adam Perlaky (senior research analyst at World Gold Council), suggest that both can be combined in a portfolio.
Perlaky stated to GOBankingRates that gold is a different asset than cryptocurrencies and that the demand for it is much more varied, with almost half of its demand coming from the technology and jewelry industries. A Jan. 2022 World Gold Council Report shows that consumer demand for jewelry increased by 52% in 2021. This was after fully recovering 2020 losses, and then rebounding to match 2019, according to Perlaky.
Bitcoin demand is, however, almost entirely tied to investment and often focuses solely on price performance. Perlaky said that gold is also a reliable hedge against market risk. Bitcoin has yet to act as a hedge against market turmoil.
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The argument that cryptos can be used as hedges like gold comes from the perception of their scarcity and role as alternatives for fiat currencies. According to a February 2 blog post, the World Gold Council considers such a comparison too simplistic. They also overlook fundamental differences between cryptocurrencies and gold, not just in terms of market dynamics but also in terms performance and role they play within portfolios.
Perlaky stated that cryptocurrencies and gold serve different purposes and are distinct assets. Cryptos are often grouped with gold because of the limited supply. Partly because of the extreme volatility, cryptos have not yet become an established medium to exchange.
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He stated that cryptos increase portfolio volatilities in a meaningful manner, while gold has historically had higher risk-adjusted returns.
He also said that crypto-investors who choose to invest in them should have additional gold in their portfolios to reduce portfolio volatility.
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Zach Pandl, a Goldman Sachs analyst wrote that the World Gold Council had estimated that the private sector owned 44,000 metric tonnes of gold for investment purposes. These include privately-held bars as well as exchange-traded funds. This means that the public has approximately $2.6 trillion worth of gold for investment purposes. Pandl, however, stated that Bitcoins float adjusted market capitalization is currently less than $700 billion.
Pandl stated that Bitcoin currently holds a roughly 20% market share in the store of values (gold plus Bitcoin).
Hypothetically, Bitcoins share in the store of value market would rise to 50% over five years, with no growth in overall value for stores of value. The price of Bitcoins would rise to just over $100,000, which would result in a compound annualized return between 17-18% according to Pandl.
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It is also worth noting, that although 2021 was a wild ride in cryptos, Bitcoin finished the year lower than expected and outperformed both gold as well as the stock market for the third consecutive year.
A rising interest rate environment could be a headwind to gold’s 2022 outlook. Perlaky stated that the effect of such increases is often limited, especially in a period with historically low absolute and negative real rate.
In recent years equity pullbacks have been more frequent and severe. Higher inflation will likely maintain demand for gold as an investment hedge. Strong jewelry and central bank demand for gold may provide additional support over the long-term. He stated that understanding trends is more important than investing because of the unique nature of gold’s demand. This is why it is an important strategic component in portfolios.
Although gold may experience some volatility in the near future, bar and coin demand remain strong.
Craig Erlam, OANDA’s senior market analyst, stated in a February 3 note to GOBankingRates, that gold is currently in trouble as tightening continues.
Gold seems to have fallen back into consolidation, and is even lower today after paring some losses from the beginning of the week. Central banks raising their game is not good for yellow metal, and we are seeing it across the board, with the Fed possibly raising interest rates five more times, the Bank of England perhaps doing the same, and even the European Central Bank joining in a lesser degree, Erlam wrote.
Outflows in gold-exchange traded funds are another trend that appears to be changing for gold.
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Perlaky reported that the global gold ETFs recouped almost a third of the outflows in January 2022. This was due mainly to U.S. listed funds and continued inflation concerns.
Even though there were net outflows for 2021, they were still small in comparison to the record-setting year of inflows for 2020. Additionally, gold ETFs are not the only source of investment demand. Bar and coin demand, an additional form of gold investment that he mentioned, increased 31% last fiscal year. Record buying was also seen in the U.S.A. and Germany.
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